It pays to know what your investment services are costing

By DAVID MOON, Moon Capital Management
March 11, 2001

Do you know what you're paying?

Last week, a woman emailed me, concerned with the costs she was incurring in her investment management account. She paid her broker a fixed quarterly monitoring fee of $500, plus commission costs on her trades. As long as her stocks were increasing in price, she never questioned the arrangement. But she was heavily invested in NASDAQ technology stocks; her 2000 performance was dismal, prompting her to reevaluate the $2,000 a year she was paying. I almost fainted when, later in the email, I learned her account value was approximately $25,000.

That fee would have been appropriate for an account ten times that size. She had no idea what she should pay and what types of services she should receive for that payment.

Of course, her decision was her own; no one put a gun to her head and forced her into the arrangement. She bears the responsibility for that decision, no matter how egregious the circumstances. How could an intelligent, educated person pay ten times a fair price for a service? Don't be shocked; it happens much more frequently than you would imagine.

In the last ten years, the financial services industry has exploded. There are more than 10,000 mutual funds. More businesses provide some sort of investment advisory of management service. More salespeople now describe themselves as financial planners or consultants. Competition abounds. But the prices of many financial services are going up, not down.

Banks are raising fees. Mutual fund expense ratios are still increasing. Brokerage firms are adding fee-based services at higher fixed costs. As a person's assets grow, the dollar amount of asset-based fees of many financial service providers also increases. But in many cases, the percentage fees are increasing, as well. In the face of increased competition, how is this possible?

Increased competition results in lower prices only when the consumer has full information. Consider the brokerage industry. Brokerage commission rates have declined significantly in the last five years because of competition, coupled with growing investor understanding of the difference between an investment transaction and investment advice. Once an investor separates the two, it is easier to see the cost of each and allow naturally competitive forces to find an equilibrium price.

But in areas where it is still difficult to intellectually un-bundle a package of financial services that need not necessarily be bundled, competitive pricing has yet to come to the consumers' aid. In some situations, these prices are actually increasing, defying all logic and reason.

Will this ever change? Of course. With information comes power. As consumers have more information about the products and services they purchase, prices will decline. New or newly-inspired price-seeking competitors will make marginal dents in overall expenses, forcing larger, slower-acting players to cut costs or lose market share. Some companies will choose to lose market share, deciding to focus on a smaller number of more profitable (read: less-informed) customers. That pool of less-informed customers will continue to shrink. A bear market or two will prompt people to more closely analyze their service provider relationships - and the costs of those relationships. The pool of less-informed customers will shrink some more. And prices will fall across the marketplace. Some consumers, however, will get there faster than others.

David Moon is president of Moon Capital Management, a Knoxville-based investment management firm. This article originally appeared in the News Sentinel (Knoxville, TN).

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